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Does Output Market Development Affect Irrigation Water Institutions?

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Does Output Market Development Affect Irrigation Water Institutions? Agricultural Water Management 131 (2014) 70–78 Contents lists available at ScienceDirect Agricultural Water Management j ournal homepage: www.elsevier.com/locate/agwat Does output market development affect irrigation water institutions? Insights from a case study in northern China a,b,∗ c a,b a Lei Zhang , Xueqin Zhu , Nico Heerink , Xiaoping Shi a China Centre for Land Policy Research, Nanjing Agricultural University, Nanjing, PR China b Development Economics Group, Wageningen University, Wageningen, The Netherlands c Environmental Economics and Natural Resources Group, Wageningen University, Wageningen, The Netherlands a r t i c l e i n f o a b s t r a c t Article history: The main aim of this paper is to examine the impact of changing external conditions on irrigation water Received 16 November 2012 institutions in northern China. To this end, we perform a case study analysis of the impact of output Accepted 16 September 2013 market development on irrigation water transactions, using survey data collected among 315 households Available online 21 October 2013 in Minle County, Zhangye City, Gansu Province, covering the year 2009. Households in this region possess tradable water use rights. Moreover, a major agro-processing company has recently been established and Keywords: the local government intervenes in the allocation of water to stimulate farmers to grow a cash crop for Irrigation water that company. Despite these favourable enabling and driving factors, we find that market water trade is Institutional change virtually absent. Instead, we observe that reciprocal water use arrangements (water swaps) have emerged Output market at a limited scale. We argue that factors other than an improvement in the output market (such as producer Transaction costs China ignorance, centrally set prices, trust) need to be considered, if improvement in the market for irrigation water is to occur. © 2013 Elsevier B.V. All rights reserved. 1. Introduction distribution and an innovative system of water resources property rights allocation and trading. China is a country with substantial water resources, but their Zhang (2007) and Zhang et al. (2009) examine the water prop- regional distribution is highly unequal. Water availability in the erty rights system that was implemented in Zhangye City. These 3 north (757 m per person in 2003) is almost 25% below the inter- studies find that high transaction costs in some parts of the region, 3 nationally accepted water scarcity threshold of 1000 m per person, and management, legal, administrative and fiscal barriers in cases 3 while water availability in the south (3208 m per person in 2003) where transaction costs are low, discourage farmers from saving is relatively abundant (Shalizi, 2006). and trading surplus water. As a result, trading of water use rights The water resources available for agricultural production in is almost non-existent in this pilot project area. China are rapidly declining due to increased water demand for Induced institutional innovation theory suggests that new industrial use and household consumption. The use of water in institutions, such as tradable water use rights and non-market agriculture as a share of total water use has steadily declined from institutions, may emerge when resources become more scarce due around 80% in 1980 to 61.3% in 2011 (Shalizi, 2006; National Bureau to growing population density, commercialization of agriculture, of Statistics of China, 2012). Technical innovations as well as water or exogenous technological change (Hayami and Ruttan, 1985; policy and management reforms are required to improve water use Platteau, 1996). Although the theoretical literature elaborating the efficiency in agriculture to meet growing food demands (Rosegrant gains from institutional changes is vast and growing (Bromley, and Cai, 2002; Yang et al., 2003). The Ministry of Water Resources of 1989; Saleth and Dinar, 2000), empirical studies examining drivers the PR China has initiated a number of pilot projects to gain expe- of institutional change are scarce due to lack of suitable data sets. rience with the development of water-saving irrigation systems. Appropriately chosen case studies can provide deeper insights into The first of these pilot projects was initiated early 2002 in Zhangye the role of changing external conditions in stimulating institutional City, an oasis with rich agricultural resources in Gansu Province change, and may be used to formulate hypotheses on driving forces in northern China. Measures taken under this project include the of institutional change that can be tested at a larger scale. construction of an engineering system that optimizes the water In Minle County, one of the six counties in Zhangye City, a large potato processing factory was established in 2008. The factory is owned by Aviko Gansu Potato Processing Co., Ltd., a joint venture ∗ of Aviko – one of the four largest potato processing companies in Corresponding author. Tel.: +31 647754258; fax: +31 20 4852623. E-mail address: zhanglei [email protected] (L. Zhang). the world – and the local government of Minle County. To meet 0378-3774/$ – see front matter © 2013 Elsevier B.V. All rights reserved. http://dx.doi.org/10.1016/j.agwat.2013.09.008 L. Zhang et al. / Agricultural Water Management 131 (2014) 70–78 71 the demand of this factory, the area grown with potatoes in Minle as well-defined water rights and water markets) are required to County is rapidly being expanded at the instigation of the local achieve an efficient allocation of water over its users such that the government. Potatoes need a relatively large amount of water, total net benefits of water are maximized. Water institutions can but the water should be applied at a later stage in the season than be defined as the humanly devised constraints that regulate water many other crops grown in the region. A detailed examination development, allocation and utilization. Different institutions are of the changes in the allocation of water to farm households and combined in reality for water management, and continued public the trading of water by households that occurred since 2008 in sector participation is required to deal with the common property 1 Minle County may add to a better understanding of the impact of character of water and to address externalities (Griffin, 2006). As output market development on water institutions. Given the fact a result, various types of water institutions have been established that Minle County is located within the water-saving pilot area of in different areas around the globe. Zhangye City, such research may also provide important insights According to the first welfare theorem, Pareto efficient allo- into further policy reforms that are needed for establishing an cations of water can be achieved by establishing water property efficient system of water resources property rights allocation and (use) rights and water markets, provided transaction costs are zero trading. and a number of additional conditions, such as absence of exter- The objective of this paper is to examine the changes in water nalities, are satisfied. A resource being managed as a transferable institutions that took place in Minle County, northern China property will cause a market to arise and the market will produce a after the establishment of a large potato processing company resource-conserving signal, namely its price (Griffin, 2006). When in 2008, and the driving forces of these changes, and to use the individual agents possess property rights in (natural) water, they resulting insights to formulate policy recommendations on ways will be able to exchange water for money or other property. to improve the functioning of water institutions. To this end, we Water trading means the exchange of water rights by willing use data collected for the year 2009 among 315 households to buyers and sellers. Water trading is a scarcity-addressing strat- assess the frequency of water exchanges after the company was egy to achieve Pareto efficiency because water can be used to its established, and to examine factors affecting water exchanges highest value, when the conditions under which the first welfare between households. We find that despite the development of the theorem holds are met (e.g. Zhu and Van Ierland, 2012). Economic output market, no significant water trading emerged. Informa- theory suggests that, in a perfect market with full information, trad- tion asymmetry between government and water users severely ing of water takes place until the marginal net benefits of all users constrains the water use rights exchanges in the region, while are equalized. When a water trading scheme is implemented, the low levels of non-kinship trust among villagers entail that most amount of water being transferred therefore depends on the differ- observed exchanges take the form of water swapping instead of ences between the marginal net benefits of different users. With a market exchanges. We conclude that without addressing these relatively large difference in marginal net benefits, water users are bottlenecks, output market development is unlikely to boost the expected to trade water (transfer water rights). If there exist only development of a tradable water use rights markets. small differences between the marginal net benefits, the traded In the next section we present the theoretical framework, amounts are expected to be small. focusing in particular on efficiency gains obtained by market and The existence of imperfect information in water market opera- non-market water institutions, the role of transaction costs, and tions, however, contributes to high costs of searching, bargaining the impact of exogenous and endogenous factors on water man- and other transaction costs that can pose a serious hurdle for direct agement institutions. Recent developments in irrigation water market exchanges. Under such conditions, water transactions may management in China are briefly summarized in Section 3, while take place through non-market institutions. The transaction cost the research area (Minle County, Zhangye City) and the data col- approach in the so-called new institutional economics (NIE) pro- lection method are introduced in Section 4.
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